Are Bitcoins a Scam?

A good friend of mine and I were talking the other day and he asked me if I had ever heard of Bitcoins.  Never having read or seen anything about this type of currency before, I was amazed to hear that this was a potential online currency system and it was gaining serious traction.  Once our conversation ended, I took to the net and ready up as much as I could about Bitcoin.org, it’s algorithm and how it functions.  According to my analysis, Bitcoins are NOT a scam.

What are Bitcoins?

Bitcoins are a form of online currency created in 2009 by Satoshi Nakamoto. It is also the name of the open source software designed in order to use this currency.  If you want to pay for something online and the receiver accepts Bitcoins, you can transfer them from your account and close the transaction.  Anyone can create an account at www.Bitcoin.org and begin accepting Bitcoins.  The other option of course is to “mine” Bitcoins, an extremely complicated task for anyone not mathematically and program savvy.

I wish I could sit down and explain to you step by step on how to mine Bitcoins, but that’s simply not going to happen.  Instead, allow me to provide a brief synopsis on how Bitcoins are mined straight from Bitcoin.

New coins are generated by a network node each time it finds the solution to a certain mathematical problem (i.e. creates a new block), which is difficult to perform and can demonstrate a proof of work.  A proof of work is a piece of data which was difficult (costly, time-consuming) to produce so as to satisfy certain requirements. It must be trivial to check whether data satisfies said requirements. Producing a proof of work can be a random process with low probability, so that a lot of trial and error is required on average before a valid proof of work is generated.

How many Bitcoins are there?

If you look at the market today, more than 6 million Bitcoins are currently in existence.  According to a specific timetable in which 10,500,000 Bitcoins will exist after four years, and every subsequent four years, the amount of new Bitcoins is halved.  So, for example, in years 5-8, 5,250,000 Bitcoins will be mined, years 9-12, 2,626,000 Bitcoins will be mined and so on, until 21,000,000 total Bitcoins are in existence.  It is at amount, that the creation of Bitcoins will cease to exist and the world will be left with 21,000,000 Bitcoins.

The reason this is done is similar to why the Federal Reserve doesn’t print an unlimited amount of currency.  Should the demand continue to grow for Bitcoins, the cost of acquiring them will increase over time, like a good stock or commodity (silver or gold anyone?).  This method ensures that a proper amount of Bitcoins are released each and every year, and that the market for Bitcoins does not become saturated.

Why are Bitcoins valuable?

Bitcoins hold value for the same reason that Apple stock or a $20 bill hold value.  It’s because merchants and individuals are willing to accept them as a form of payment, albeit electronic.  If tomorrow, the world decided that Gold was useless and it could not be used to create anything of value, the price would plummet.  Gold would serve no purpose in our economy and therefore be of no value.  Similarly, Bitcoins are only valuable when others want them, and right now, the demand is high.

So high in fact, that the value of one Bitcoin is currently worth around $18.  That number is up tens of thousands of a percent from where it was just a year ago, however if you compare that value to what a Bitcoin was worth 1 week ago, it’s down around 40% (high was $30 just seven days ago).  The virtual “crash” of the Bitcoin is the first in it’s history, and most likely not the last.

You can see from the graph above that the value of a Bitcoin is now actually worth $17, dropped $1 just in the last hour (and was as low as $13 earlier today).  The volatility of this market is just crazy right now with all of the publicity and problems Bitcoins have had in the last week.  The dollar amount a Bitcoin is worth is determined by an active online trading platform, which is open 24/7/365.   To find out what the current dollar value of a Bitcoin is, visit this graph.

How do you cash in Bitcoins?

The biggest problem facing the Bitcoins empire is the difficulty in exchanging your Bitcoins for paper currency.  Previously, everyone’s favorite online payment method, Paypal would gladly process Bitcoin transactions, however that has stopped, as all new transactions are blocked.

Currently the most well published ways to convert Bitcoins to USD or vice versa is to use Dwolla or Liberty Reserve.  These methods can be just as simple as using Paypal, however few consumers know of them and transactions can take a long time.  Add to the fact that Bitcoin was having trouble with Dwolla recently, and you have a good reason as to why the market crashed like it did.  Consumer panic about whether or not these Bitcoins will hold their value over time.

The Bitcoin conclusion

If it’s difficult to grasp the idea behind Bitcoins, just consider them an online stock.  The value of a Bitcoin can go up or down at any time, depending on who is buying and selling them and at what price.  While the actual metrics are more complicated than stocks, the value of a Bitcoin is only what someone else is willing to pay.  Considering their recent struggles with conversion, now may not be the best time to get aboard the Bitcoin train.

But that doesn’t make this idea a scam.  Sure, there is potential to lose money in the Bitcoin market and if you think you can mine Bitcoins, you could spend thousands of hours earning very little, however the risks are clear.  Invest wisely!

Published or Updated: November 5, 2013

Comments

  1. jostmey says:

    I think that bitcoins have the potential to become more than just a currency for traders. A large volume of merchandise can be purchased with bitcoins. To fully appreciate the size of the bitcoin economy, you have to see the aggregation of all the merchandise. Several websites now do this, such as tiptopgem and searchbitcoin.

    But the currency is still very volatile, and it remains to be seen if direct sales can survive in such an environment.

    • Walter says:

      A large volume of merchandise can be purchased with bitcoins? Absolutely false. No retailer of any significance accepts bitcoins. The only thing available for sale in bitcoin is junk. Bitcom will go the way of flooz.

      99.9% of earthlings have never even heard of it, and the rest of us know about it almost entirely because of the speculative bubble market in bitcoin forex going on right now, not because there is a thriving bitcoin-based economy.

      • jostmey says:

        No major retailers yet.

      • ted says:

        The difference with Bitcoin and Flooz is that Bitcoin provides a direct way to transfer money directly and anonymously, which is something a lot of people need for legitimate (and illegitimate) purposes. Want to donate money to Wikileaks? It’s the easiest way.

  2. Liberty Reserve is run out of Costa Rica, and any disputes must be resolved through arbitration in Costa Rica. Dwolla doesn’t give their address on their web site, but corporation records indicate they are in a hacker space in Des Moines, Iowa. Mt. Gox, the main USD to Bitcoin exchange, gives no address, only a link to an ISP in Tokyo.

    Mt. Gox acts as a depository institution, but who are they? They also have rate of withdrawal limits – $1000 per day, $10,000 per month. That just screams Ponzi scheme.

    • Michael says:

      I would agree with you John, if not for the fact that there’s no pyramid built here. No top investors, no middle investors, no bottom investors. Every single person is in the same pool so if Bitcoins go under, who comes out on top?

      In that scenario, the only winners would be the investors who bought low and sold high. Exactly like selling short in the market.

      I agree with you though, the processor problems are a huge concern. If that ship isn’t righted soon, and a new, reliable processor found, this could crumble quickly.

      • Serge says:

        “Every single person is in the same pool so if Bitcoins go under, who comes out on top?”

        The protocol creator and early adopters minted lots of coins essentially for free when difficulty was low, and are hoarding them. ~90% of the bitcoins currently in existence have never been traded. The first of the early hoarders to get bored and decide they want their yacht now will easily be able to extract all value from the markets, bursting the bubble, and everyone else will lose out at that point.

        • Kevin Monk says:

          90% of gold is never traded. The vast majority (about 70 – 80%) is in jewellery and about 10% for industrial purposes and the small remainder is the amount that’s regularly traded.

          If it’s worth that much then why not buy the yacht in bitcoins? because otherwise your attempt to sell a large amount of bitcoins would reduce the value of your own holdings.

    • Amin says:

      Mt. Gox’s daily withdrawal limit is to comply with US FICA regulations.

      In order to withdraw more than $1000 a day, you need to verify your identity by sending them a scanned photo of your passport I believe.

  3. MoronsAllOfYou says:

    If bitcoin is not a scam, why has Satoshi Nakamoto not revealed his true identity? Bitcoins is a CIA PsyOp and will end badly.

    • Tyler Jordan says:

      dude, Satoshi’s identity is irrelevant. – how could knowing who he is make any difference to bitcoin? It’s open source software. One of the developers is actually going to address the CIA in a few days, as they are clueless about bitcoin (look it up on the bitcoin forum). Being that the software is open source, there is nothing hidden going on here, and the fact that the CIA is a tool of the international bankers, and that bitcoin is, by design, diametrically opposed to central control of money – your assertions are ludicrous. My advice, reduce your drug use and/or get psychological help.

      • Uga says:

        The question to be answered is where the computing power generated is used.
        To play video games is certainly not …..
        and any kind of anonymity and lack of transparency for currency is dangerous
        and “dude” open source is not financial system.
        Cia is a tool? Guimme a break , you pseudo left – wing

  4. Roberto says:

    What is happening in the market for Bitcoin in my opinion can be explained easily if one considers how the market is still small, but how big are the interests against the development of a peertopeer coin without masters and with no state control. If i was a banker, a federal reserve, a credit card owner, paypal or a gold reserve owner for now I can invest very little money to cause a depression in the bitcoin market.

    Mtgox has a volume of some hundreds of thousands. I can easily buy bitcoin at 20 and sell at 15, rebuy at 15 and sell at 10. I will lose maybe some million dollars but this it is very very little in comparison to what I might lose in the future if bitcoin establishing themselves as digital money currently used. Some day ago there was Bilderberg Group reunion, I think some of the speech were about bitcoin and their risk for the establishment. Now someone is working on bitcoin… Could this stop the bitcoin economy? Surely a big deflation was big advertising for bitcoin and now depression can stop enthusiasm of some folks but bitcoin are still a great idea and i hope there will a future for them because we all need their freedom.

    • lmoses says:

      how do i buy stock into bitcoins??? i jusst learned about bitcoins it sounds very interesting, how do i buy in.

  5. SmuLL says:

    LOL, the source code is realized! If you think there’s something shady with it, just read the source code and compile it yourself!

    I don’t understand how Bitcoin can be a scam. People need to realize how the US Dollar is made, now THAT is a scam by the big banks! They just keep printing more and more of it up! With Bitcoin is isn’t that simple. No one can just print millions of Bitcoins.

  6. Bitcoin says:

    Expect a massive interest for bitcoin as soon as the bitcoin client will be more accessible and targeted for std:users() :p

  7. jim says:

    Personally I don’t see much of any value in this. The only appeal right now is the ability to mine coins to make Bitcoin money for free. Otherwise it seems all speculative. I would make an off hand guess that the economy in Everquest gold is worth significantly more.

    • nick says:

      hahah…well looks like you were WRONG!!!!

  8. Gary Rowe says:

    Consider the following chain of “Ifs”:

    If there are only 21m bitcoins ever (and that won’t be until 2140) then each bitcoin represents a share in the overall bitcoin economy.

    If merchants are able to reliably exchange BTC to their local currency as required, then they will be able to take advantage of the very low transaction fees offered by Bitcoin. (Bitcoin Tx can be free but they will take longer to be processed, pay a fee of 0.01BTC and you’ll have your Tx encoded in 10 minutes). There are several free exchanges for BTC and there is free and open exchange source code available for download so you can start your own if you like.

    If merchants accept BTCs they can pass on the reduced processing costs to their customers leading to a lower BTC price than offered Visa/Mastercard price. This will grow the economy, and thus the value of a BTC increases (deflating currency). Merchants can also take payments from anyone, anywhere regardless of if they have a credit card/bank account or not. Direct deals with coffee growers over their mobile phone, anyone?

    Finally, if the overall internet payment economy of just the UK is currently 100billion GBP and Bitcoin takes 1% of it and there are 10million Bitcoins then 1 BTC = 1billion/10million = 100 GBP. And this is just a single economy. Include the US, India, China and the rest and they all contribute to the price of 1 BTC.

    Suddenly, investing a bit of cash into BTC with such a huge growth potential seems rather interesting. And if you already have a pot of Bitcoins (like the miners at deepbit etc) then your best strategy is to do everything you can to grow the Bitcoin economy to maximize the return on your investment. Eventually you must realize your investment and those coins then move into circulation.

    Strong buy signal.

  9. Rassah says:

    Yes, it is a scam! It’s a big Ponzi scheme, designed to rip people off. Stay away! At least until I’m done moving most of my own money into it at the current low prices, and it establishes itself in the market and appreciates in value. After that, by all means, feel free to participate in Bitcoin.

  10. lmoses83 says:

    anyone feel like showing me how this bitcoin thing works?

    • Gary Rowe says:

      Sure. Visit bitcoin.org, download the client.

      Now you have some choices:

      1) you can buy some bitcoins (see Mt Gox or Britcoin.co.uk)
      2) you can use Testnet which is a parallel to Bitcoin where coins have no value but work the same way (different crypto keys so they look different) so you can practice moving fake BTCs about (like developers do). You can pick up Testnet coins from the Testnet faucet (https://testnet.freebitcoins.appspot.com/)

      To use Tesnet start your Bitcoin client from the command line as follows

      bitcoin -testnet

      If that doesn’t mean anything to you, then you’re going to have to buy the coins and work with them instead.

      To buy something you do the following:

      1) The seller gives you their wallet address (big messy numbery thing) and an amount to pay (e.g. 0.01 BTC)
      2) You click send in the Bitcoin application and it asks you for the sellers wallet address and how much. Fill in the details, click send.
      3) The 0.01 BTC leaves your wallet never to be seen again and eventually ends up in the sellers wallet. You get your goods (assuming the seller is trustworthy).

      Since you may not trust the seller initially (they may not be Amazon) then you can use an escrow service to hold on to your payment until you’ve received the goods, then you release the payment to the seller.

      Want to know more? Drop me a line.

  11. peter says:

    This screams SCAM!!!!!!!!!!!!!!!!!!!!!!!!!! just like zinga.
    Currencies are only worth anything when they are indexed to something useful such as commodity baskets, sometimes gold (gold standards).
    what is this “currency” indexed to? This is a copy of a FIAT currency without the law that enforces it as THE currency, and obliges people to use it (That is what happens to real FIAT currencies such as Euros and Dollars, laws force people to use them).
    By the way FIAT currencies in most developed countries are failing big time, WHY would this one work?

    • andrew says:

      Because the bitcoin algorithm limits the amount of coins that can be in existence to 21 million, it also produces them at a even rate. After it reaches 21 million in 2018 or so, there will be no more bitcoins created. It is both somewhat a fiat currency because there’s no intrinsic value but also a commodity because there is a finite amount of bitcoins.

  12. andrew says:

    Anyone who thinks bitcoins are a scam are just being old and alarmist.

    Not sure if you meant to, but you misspelled bitcoins as “Betcoins” at the end of first paragraph. Great site!

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